So all soaps taken together are one differentiated product.” In Lipsey’s language, “Most firms in imperfectly competitive market structures sell differentiated products. As Lipsey has put it, “The word ‘competitive’ emphasises that we are not dealing with monopoly, and the word ‘imperfect’ emphasises that we are not doing with perfect competition”.Įdward Chamberlin, who first introduced the term ‘monopolistic competition’ used the term ‘product differentiation’ to refer to “a group of products that are similar enough to be considered variations on one generic product but dissimilar enough that they can be sold at different prices.įor example, although one brand of toilet soap is similar to most others, soaps differ from each other in their chemical composition, colour, smell, softness, brand name, reputation and a host of other characteristics that matter to customers. An imperfectly competitive market refers to rivalous competitive behaviour among firms that have a significant degree of market power. Joan Robinson of Cambridge University introduced the term ‘imperfect competition’. These facts explain why competition often becomes imperfect. In addition, consumers have heterogenous (varied) tastes, exhibiting preferences for a wide variety of goods and services with varying characteristics. However, in most situations information and mobility are not costless. Also, as supply and demand conditions change in individual markets, resources are assumed to move between markets until equilibrium is once again reached. Decision makers - both consumers and producers-possess perfect information regarding the choices they must make. In a perfectly competition market information and mobility of factors of production and commodity are assumed to be costless. There are no restrictions on exit, legal or otherwise. Freedom of exit means that any existing firm partly is free to stop production and leave the industry if it so desires. There are no legal or other restrictions on entry. There are no barriers to the entry of new firms in the industry. Freedom of entry means that a new firm is free to start production if it so desired. The fourth assumption relates to the whole industry. The supply curve for all firms is the MC above the AVC.Assumptions 1, 2 and 3 relate to individual’ firms. As a result, the firm’s supply curve is the MC curve above the AVC. If the price equals the minimum of the AVC, the firm will produce that quantity it is the lowest quantity the firm would produce. Producing at a price below the AVC would cause the firm to lose more than their fixed costs. If the price falls below the AVC, the firm shuts down (temporarily) as the firm will only lose it’s fixed costs if it shuts down. If the price continues to fall, the firm will produce lower quantities as long as the price stays above the AVC. As the price falls, profit will fall but the firm will continue to produce where MR=MC. If the market price is above the AVC, the firm will produce the quantity where MR=MC. The minimum point on the AVC correlates to the lowest price a firm would be willing to accept. The number of firms can only change in the long run.įirm’s supply curve: Below the ATC there is an average variable cost curve (AVC) that isn’t always drawn in. ![]() Note: Firms cannot enter or exit the market in the short run. When there are economic losses in the short run, firms exit the market in the long run which shifts the market supply curve to the left, increasing price and MR=D=AR=P until the firm breaks even. On the graph, when firms enter the market it shifts the market supply curve to the right, decreasing the market price and MR=D=AR=P until firms break even. In the end, low barriers to entry (and exit) mean competitive markets earn zero economic profit in the long run. When firms are earning economic losses, firms exit the market (as resources will be more profitable elsewhere) in the long run, causing prices to rise until economic losses are zero. When firms enter the market, prices fall and economic profit goes to zero. That means, when firms are earning economic profits, competing firms seek that profit and enter the market in the long run. ![]() In perfectly competitive markets, barriers to entry are low. Barriers to entry can be high start up costs, customer loyalty, government regulation, etc. Barriers to entry: A barrier to entry is anything that makes it difficult for entrepreneurs to enter the market and compete.
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